Japan’s digital banks emerge as regulatory easing gains momentum

TOKYO — A series of regulatory and banking industry measures in Japan is prompting a rise in financial technology startups, lifting hopes that the world’s third-largest economy can finally catch up with a global funding boom.

According to a revised law set to take effect in November, companies will be allowed to sell a variety of financial products — banking, securities and insurance — under a single financial services brokerage license. That is seen as making it easier for consumers to access such products via a smartphone app. Previously, companies needed to obtain separate licenses for different offerings.

The policy shift marks a “major transition,” said Takashi Okita, chairman of Japan‘s Fintech Association who also runs startup Nudge. “Companies were only allowed to be agents of sellers. This time, companies are becoming agents of the buyers and selecting the best products on their behalf.”

Founded in 2020, Nudge currently offers a credit card service that lets users select artists and athletes they want to support and receive rewards from them in exchange for paying with Nudge’s card. But Okita said it eventually wants to take advantage of the new licensing regime to expand its product portfolio. The company raised 1 billion yen ($8.8 million) from a group of investors this year, including Singapore-based venture capital firm Insignia Ventures Partners, which invested in Japan for the first time.

Fintech startups that raised seed funding also include 400F, a matching platform for consumers and financial experts, and SmartBank, which offers an app and prepaid cards to help people manage their spending.

The new generation of Japanese fintechs comes as peers in other markets have soared in valuation amid growing investor appetite during the coronavirus pandemic. Global fintech funding reached $91.5 billion in the first nine months of this year, nearly double last year’s 12-month figure of $47.2 billion, according to CB Insights.

Japan, however, is estimated to account for a mere fraction of the total. The biggest fintech fundraising in Japan so far this year is a $120 million haul by Liquid Group, which runs cryptocurrency exchanges in Singapore and Japan. Liquid remains the only fintech unicorn — private companies with a valuation of $1 billion or more — in Japan, according to CB Insights.

Japan was an early mover in enabling online banking, issuing licenses in the early 2000s. A number of large digital-only banks exist today, including Rakuten Bank (Finance & Banking Trends), SBI Sumishin Net Bank (Finance & Banking Trends) and Sony Bank (Finance & Banking Trends). But critics say regulators and banks have been slow to embrace a new generation of financial services based on the smartphone, which is fueling the recent rise in fintech unicorns.

The Japan Fair Trade Commission produced a report last year discovering that Japanese Banks’ Payment Clearing Network, known as Zengin-Net, had not changed its interbank transfer fees since 1979. The report, which drew wide attention, concluded that Zengin-Net lacked “a sufficient governance system” to improve the cost structure, and that nonbank institutions like e-wallet operators are “not able to compete on an equal footing” with banks.

The report triggered major changes at Zengin, including cutting interbank transfer fees to 62 yen per transaction from October, down from 117 yen or 162 yen depending on the size of the transaction. Since the fee forms the base for processing charges that banks impose on customers, the move reduces the burden for e-wallet companies and other fintech startups that depend on banks to process transactions.

Zengin-Net, which currently only permits banks to join, also said it plans to allow fintech companies to directly access the system in the 2022 fiscal year that begins on April 1. It has set up two working groups to flesh out details of the framework and system specifications.

Similar moves overseas have spurred activity. The U.K. Faster Payments system opened up access to fintech companies in 2018, including Wise and Revolut. Wise recently went public in London and has a market capitalization of about 9 billion pounds ($12.4 billion), while Revolut claimed a valuation of $33 billion in its last funding round in July.

But skepticism remains over Japan‘s pace of change. Zengin-Net fees remain much higher than in the U.S. and the U.K., and some say it also places stringent rules on foreign companies, such as a requirement to form a local entity to access the system. The cost and time required to set up a Japan-specific strategy is discouraging the best fintech services from entering Japan, said Sean Abbott, executive director of e-commerce and Technology, Media and Telecommunications Solutions at J.P. Morgan in Tokyo.

“There is a ripple effect because when you have less [fintechs] coming here, the banks don’t feel the pressure of being disrupted, so they don’t invest as much in the new innovation and technology,” Abbott said. “You need to encourage these guys to come, to change the business model and force the banks to adapt, which is what’s happening in other markets.”

Okita of the Fintech Association said banks should not simply let fintechs join but work with them to upgrade legacy infrastructure. He said that Zengin-Net’s existing features, such as a requirement to set up dedicated networking equipment, are also unpopular among some banks.

“Instead of talking about opening what we have now, we should think about an ideal mechanism that will improve both banks and fintechs,” he said.

A Zengin-Net spokesperson said that a local presence is necessary for security and to comply with financial regulations, and that participants are actively discussing improvements for the next system upgrade, slated for 2027.

Another closely watched policy move is giving fintechs access to payroll opportunities by enabling companies to pay workers directly to their e-wallets. If approved, it has the potential to shift money from banks to fintechs and bring in millions of new users. The policy is being debated by regulators, but sources say it is facing pushback from labor unions in the banking industry.

One Tokyo-based fund manager of a global asset management company said he would be “very surprised” if the payroll rules were eased. “We shouldn’t have crazy expectations because it sounds a bit too much given Japan‘s reform history,” he said.

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